Here are the black swans of 2008 that very few could imagine a few years ago. And Taleb is proven right, and so is Warren Buffett.
- US Government takes over Freddie & Fannie
- Lehman to file for bankruptcy
- Countrywide falters and acquired for peanuts by Bank of America
- AIG Seeks $40 Billion to Survive
All these banks were living the life of optimized returns – rather than trying to model for preventing a catastrophe, a black swan. They would have done well to have followed Taleb’s teachings.
In some ways, Warren Buffett had been warning us customers, investors and regulators that some stories are just too true to be true. Even as Warren’s firm wrote “risky” insurance policies, it turns out that the risk that you can see is usually the good risk – it can be managed. Disasters and catastrophes happen when you least expect them.
In fact, Warren recently said, – “We found out that Wall Street has been kind of a nudist beach.”Adding a financial crisis revealed which players had been “swimming naked” when the tide goes out.
While this drama unfolds here in the US, the ripples will be felt globally. To my friends in India that continue to buy $500K apartments in a country of less than $5K per capita (annual) income – let me say once again – money does not grow on trees. Not forever, at least.
I don’t give out investment advice but here is what I can share – if you don’t keep cash for the rainy day, learn from Lehman and others – in times of real need, cash is useful. Also, try to optmize your portfolio for high returns but make sure a disastrous year or a sector does not wipe you out. You can do this by diversifying across asset classes – cash, real estate, stocks, international exposure, etc. An easy way is to put a sigfnificant chunk in diversified (low cost) index funds from the likes of Vanguard.